Repealing Marquette

Senator Sheldon Whitehouse has introduced, with Senator Dick Durbin, the Empowering States' Right to Protect Consumers Act of 2009 (S. 255). The statute would repeal the thirty-one year old Marquette decision, which was the United States Supreme Court ruling that held federal law preempted state law regulating interest rates. A later decision in 1996 (Smiley v. Citibank) expanded the scope of federal preemption, holding states also lacked the power to regulate the fees charged on credit cards, and the bill would repeal Smiley as well.

Marquette effectively deregulated most consumer interest rates and led to the expansion of consumer borrowing for the past thirty years. After the Smiley decision, bank fees started to climb. Much of the "gotcha" marketing mentality from the credit card industry can be attributed to the freedom Smiley gave banks to exploit credit card fees as a revenue stream.

Some persons think interest rate and fee caps are bad idea. Fair enough. The Whitehouse bill, however, is not an interest rate cap. It merely returns the power to the states to regulate consumer lending to their citizens and harnesses the states as "laboratories of democracy" (as the saying goes). Let the states experiment with interest rate and fee caps, and we will find the right balance between exploitative market practices and overly restrictive government regulation.

Open Access Factories

This semester, I have been teaching a seminar simply called "Bailouts." This week, we have been talking about the automobile industry. One of my students, Aaron Moshiashwili, put forth an interesting idea in his written work for the week. In the seminar, I have stressed that the idea is not to save a particular company but the productive assets that company represents--a point that generalizes to many other contexts in corporate law. In other words, we shouldn't care about the logo that is on the door, but we should care about what goes on inside the building. Regardless of whether they make it or not, the automobile companies are going to create a lot of excess capacity in physical plant and human capital.

Reorganization Is the Worst Option . . . Except For All Others

The tried and true criticisms of bankruptcy procedures that salvage jobs while forcing creditors to internalize losses are making the rounds again. People just don't understand. In England, in particular, the financial press is all over "pre-packs" that allegedly allow "debt dodgers to revel in return of the phoenix" as companies are sold in fast-track reorganization procedures. The problem with breathless criticisms of these procedures--now attracting legislative attention in Britain--is that they seem to be based on the false premise that the alternative would be superior. Ironically, Churchill's tongue-in-cheek appraisal of Democracy applies in like manner to the pre-pack procedure in particular, and reorganization generally.

I know I'm preaching to the choir in making this observation on CreditSlips, but I just don't understand how sophisticated financial reporters can miss the point so badly. The challenge repeated in the linked stories above is that the procedure for allowing troubled companies to be sold (often to private equity, often to investors already associated with the business) somehow allows the management of these businesses to evade personal responsibility and improperly externalize losses onto small businesses, in particular (the darling of all conservative, anti-bankruptcy rhetoricians). The "moral turpitude" bent of these criticisms is explicit, but morality must be based at least in part on reality, it seems to me. These stories seem to miss that (1) the sale proceeds must be distributed to creditors, unless I'm totally missing something with respect to U.K. and other pre-packaged reorg procedures, (2) since the middle of the 1800s, general corporation law has shielded management and shareholders from personal liability to creditors, bankruptcy or not, and (3) the result for small business creditors would be in probably every case worse without a pre-pack, since secured creditors and other large, institutional investors would eat up most of the value of the business in a bankruptcy distribution, especially since a piecemeal liquidation bankruptcy would tear apart the going concern value of the business--and European law often requires management to seek this liquidation bankruptcy as soon as it becomes clear that the company is insolvent! What is a "moral" manager supposed to do? Creditors are getting the value of the business (defined by a market sale mechanism, the result of new money, be it from old management or not), which is rather clearly enhanced by an honestly conducted pre-pack. If the challenge were that pre-packs were being administered improperly (by public authorities), that would be one thing, but the challenge seems to be, instead, that pre-packs are being used improperly, which totally misses the mark, it seems to me.

These commentators are not comparing apples to oranges, they're comparing apples to unicorns! Yes, the result for small business creditors in these cases may well be sour apples, but the alternative is not a magical ride on a unicorn--it's no apples at all.

Personal Bankruptcy Law and Entrepreneurship

An issue that's been at the forefront of recent personal (i.e. non-corporate) bankruptcy reforms in Europe has been the notion that an unforgiving bankruptcy regime may act as a deterrent to starting a business. There's a strong perception in European policy circles that US bankruptcy law is more forgiving of overindebtedness, and that this in turn is linked to a more entrepreneurial business culture. Thinking of this sort (see, e.g., the Insolvency Service' Consultation Paper) underpinned the UK's recent relaxation of its personal bankruptcy laws (effective 1 April 2004), to permit individual bankrupts to obtain a discharge from prebankrupty indebtedness after only one year, as opposed to the three years it previously took. Similar policy initiatives, encouraged by the European Commission, have also been taking place in other European countries. There's a certain irony, however, that at the very time this has been going on in Europe, in the US-- the country offering the inspiration for reform-- access to a fresh start for individual debtors has been made more difficult. One of the important questions this raises is whether there really is a link between bankruptcy law and entrepreneurship.

Entrepreneurs Among the Bankrupt?

I spent the past few days at the Law & Entrepreneurship Retreat that Gordon Smith put together at the University of Wisconsin Law School. Gordon also blogged about the retreat on The Conglomerate blog, complete with pictures. It was a great event, and I learned a lot. The other attendees were very gracious in putting up with my skepticism about entrepreneurial studies. The day's exchanges helped me think a lot about the topic and left me with the following.

One concept of entrepreneurial studies might be that it defines a group of scholars with cross-disciplinary interests in what might loosely be called "emerging businesses." Under this concept, entrepreneurial studies is a label that helps a set of scholars identify papers, conferences, and other opportunities for scholarly exchange. Thus, entrepreneurial studies can be seen as a flag around which a group of scholars have rallied. This loose social organization facilitates the accumulation of knowledge because these scholars otherwise would have stayed within their own intellectual silos, and the information that each knew would not have been shared with the larger scholarly community. That is a useful role for entrepreneurial studies.

There is a stronger claim, however, about entrepreneurial studies on which I remain a strong skeptic. That claim is that there exists a phenomenon called the "entrepreneur" and that we would agree on who is an entrepreneur such that the phenomenon can be the subject of scholarly study. My skepticism is not people do not start business, for they obviously do. Are all business startups entrepreneurial? If so, then is entrepreneurial studies just the study of business startups? Could I continue with more rhetorical questions to illustrate the point? I am not the first person to think about these questions, and my comments here probably will show my lack of knowledge about the literature. But I think my interest in bankruptcy gives me a slightly different way to get a handle on the question.

The American Law & Economics Association Annual Meeting

This weekend was the annual meeting of the American Law & Economics Association (ALEA).  It was a two-day conference at Harvard Law School, with five concurrent panels of three presenters for each time slot.  Although the topics ranged from plea bargains to family law to referees in the NBA, there was almost always a bankruptcy or contracts panel taking place.  (I knew I was on the right track because the sessions I wanted to see were all in the same room.  I got to know Pound 102 quite well.)

I saw too many presentations to recount all of them, so I’ll summarize briefly three papers I think will be of particular interest to Credit Slips readers.